In a world of corporate refocusing, down-sizing, and outsourcing, a critical strategic decision that many senior managers make is determining their firm’s boundary. “Which business activities should be brought within the boundary of the firm?” and “Which business activities should be outsourced?” are essential strategic questions in determining a firm’s boundary. Firms that bring the wrong business activities within their boundaries risk losing strategic focus and becoming bloated and bureaucratic. Firms that fail to bring the right business activities within their boundaries risk losing their competitive advantages and becoming “hollow corporations.”1
Fortunately, a well-developed approach exists for determining a firm’s boundary. Called transactions cost economics, this approach specifies the conditions under which firms should manage a particular economic exchange within their organizational boundary as well as the conditions under which it should be outsourced.2 Not only is this approach well developed, it is remarkably simple, and many of its predictions and prescriptions have received empirical support.3 Indeed, in its most popular version, this approach requires managers to consider only a single characteristic of an economic exchange — the level of transaction-specific investment — in order to decide whether to include an exchange within a firm’s boundary. To date, the simplest conclusion one can make about transactions cost economic... To read the complete article, login or sign-up using the form below.
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